Organizational or Corporate Governance Theories

Transaction Cost Economics (TCE) Theory

• Originated in economics.
• Examines costs involved in transactions within and between organizations.
• Decision-making: whether to produce in-house or source from outside.

Key Concepts of TCE

• Transaction Costs: Costs related to conducting transactions among parties.
  • Agreements, contracts, interactions involving shareholders, management, suppliers, customers.
• Four Main Costs:
  1. Searching for Information:
     • Expenses in gathering data and identifying partners or suppliers.
     • Costs arise from research, data collection, and effort.
  2. Haggling Costs:
     • Related to negotiating agreements and contracts.
     • Includes time, legal assistance, third-party mediation.
  3. Monitoring and Enforcement Costs:
     • Ensuring contractual obligations are met and best interests are upheld.
     • Involves audits, inspections, and enforcement actions.
  4. Decision-Making Costs:
     • Resources needed to make choices among alternatives.

Application in Corporate Governance

• Key Players:
  • Board of Directors, Shareholders, Management.
  • Shareholders elect board, management oversees operations, board represents shareholders.
• Goal: Minimize transaction costs, align interests, prevent conflicts.

Assumptions of Transaction Cost Theorists

1. Information Asymmetry:
   • Unequal knowledge among parties can lead to imbalances and misalignment.
2. Opportunism:
   • Parties may exploit information gaps for self-interest.
   • Mechanisms needed to mitigate opportunism.
3. Rationality:
   • Parties aim to minimize costs and maximize benefits.

Recommendations for Corporate Governance Structures

• Board Independence:
  • Independent directors not affiliated with management/major shareholders.
  • Provide objectivity and safeguard interests.
• CEO Duality:
  • Separate roles of CEO and board chairperson.
  • Balances power, mitigates opportunism.
• Board Diversity:
  • Diverse expertise and backgrounds enhance decision-making.

Conclusion and Call to Action

• Understanding transaction costs improves governance and performance.
• Research criticisms of TCE in corporate governance for deeper understanding.

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